The present invention relates to banking and, more particularly, to a loan performance analytic tool designed to improve analysis of past and future performance of loan portfolios.
Financial institutions such as banks own large portfolios of mortgage and other closed end loan instruments. Further, there is a constant influx of applications for new loans and mortgages and, moreover, existing loans are treated by banks as commodities or products which they trade among themselves. Banks underwrite loans and/or purchase loan portfolios of other banks or sell portions of their own loan portfolios. In doing so, banks customarily continually assess and reassess the quality of various loan portfolios, which quality depends on the interest rates earned on those loans, the customer payment history on the loans and other criteria.
As regards newly originated loans, the process begins with loan applicants submitting applications to financial institutions which then triggers an investigation by either the bank and/or related service organizations which check the credit history of the applicant before the loan is approved. Typically, the decision to grant or not grant a loan implicates various credit screens that examine such factors as the loan to value ratio (LTV) of the particular application or the debt to income ratio (D/I) of the applicant and other historical facts, which shed light on the commercial worthiness of the given loan transaction. Once a loan is granted, it becomes part of an aforementioned vast portfolio of loans which a given financial institution owns and/or services. The “quality” of the particular loan heavily depends on the interest fees earned by the financial institution on each loan and on the performance of the loan which is dependent on the timeliness of the payments by the loan applicant and/or on loan prepayment.
Loan portfolios represent to banks two separate and distinct lines of business or sources of income. One business line or source of income flows from the ownership of the loans and the earning of interest fees thereon. The second line of business involves the servicing of the loan, for example, the keeping of records, collection of periodic payments, enforcement in the form of loan foreclosures, etc. Banks can earn fees on servicing of loans which they either own outright or which they service on behalf of other financial institutions. This is because it is traditional in the banking industry to attribute to each loan a basic cost of servicing which is included in the interest fees charged to the customer. If a bank is able to carry out or perform these servicing tasks at a cost structure which is below the originally attributed servicing cost, the bank is able to realize a profit from its loan servicing business.
It is not uncommon for large financial institutions to immediately turn around and sell to other investors portions of the loans that they have booked, to spread the credit risks and in order to diversify the types of loan instruments that they are holding. The same is true of the services end of the business with respect to which decisions are constantly made as to whether retain or sell the servicing components of various groups of loans.
The loans that are retained for servicing are assigned to a subsidiary of the financial institution which is a purely service organization that has developed the methodology and procedures for servicing loans. A portion of the loan portfolio can be sold to third party loan servicing bureaus. It is common for banks which sell loans to retain ownership of the servicing rights to earn the fee income thereon. In addition, many financial institutions may decide to purchase servicing rights from other financial institutions.
In any case, bank managers are responsible for managing loans totalling billions of dollars both as pure loan instruments and as products that require servicing. The decisions whether to retain different groups of loans or whether to sell them off to other investors and, on the other hand, whether to purchase loan portfolios from other institution for ownership or servicing purposes are bottom line decisions that have the potential to affect the financial institution's profits and/or losses to the tune of tens or even hundreds of millions of dollars. Hence, loan portfolios are constantly examined by bank managers very carefully since different vintages of loans can perform quite differently from one another.
For example, a portfolio of loans representing mortgages granted in a particular locality during a particular time frame might be deemed to represent high quality loan instruments, as for example in the situation where the history of these groups of loans has shown that the rate of default for that group of loans has been extremely low and the interest rate on those loans is high compared to present interest rates. Conversely, another portfolio of loans granted in another region of the country which may have suffered economic decline may result at some future date in large rates of default. Assuming further that these loans were issued at a low interest rate, it is not difficult to understand that the particular “product”—the portfolio of loans—would be deemed to possess low value and be a good candidate for being sold. Alternatively, a shrewd bank manager might see future value in a presently poorly performing loan portfolio and seek to buy at its current low price structure for its potential improvement. In the same vein, the “servicing” of such loans may be more difficult and expensive due to higher default instances. A bank might wish to sell off the ownership component of such a loan portfolio, or the servicing rights thereof, or both. Sometimes, however, a financial institution which has a “servicing” subsidiary that is being underutilized may be willing to accept loan portfolios of servicing rights considered unattractive by other financial institutions.
In the prior art, bank managers entrusted with making the aforementioned decisions have often resorted to and relied on manual research and their intuition in their attempts to predict, manage and select loan portfolios for ownership and servicing purposes. The prior art approach has failed to provide a straightforward and easy to comprehend and administer system for assessing the past performance and future likely course of loan instruments.